Attitudes toward liquidity risk have changed

Research report summarizes best practices and insights from the CFO, CIO and CRO

By Waynette Tubbs, Risk & Fraud Insights Editor

Six years ago … it’s hard to believe it’s been six years since the most recent financial crisis. In 2008, most banks took for granted that they would always have access to liquidity, and so they didn’t worry too much about liquidity risk. Even regulators worried little about it – until liquidity was exposed as a contributing factor in what many label as the worst financial crisis of the 21th century.

The media has moved on to other crises, but regulators and financial institutions are still hard at work to prevent the crisis from happening in the future. Their attitudes toward liquidity risk management have changed.

For example:

In 2008, the Basel Committee on Banking Supervision published its Principles for Sound Liquidity Risk Management and Supervision.

Financial institutions are conducting more frequent, and more stringent, stress tests. And they are investing heavily in systems and processes to ensure that they have a timely, accurate picture of their liquidity position intraday, and over a longer period, across the entire institution.

The finance, risk and IT functions have a critical role to play in managing the changes needed to provide a stable financial market. SAS and Longitude Research interviewed a number of experts and finance executives to understand how the CFO, CIO and CRO are responding to the liquidity risk management challenges they face.

As we focus more and more on business needs, rather than just compliance needs, we hope to secure a broader return on investment.

CFO

We have to think beyond regulation and consider our specific circumstances, as well as those of the financial system as a whole.

We have situations and challenges that require us to do more than what regulators prescribe.

We need to adapt our business models to a more stringent regulatory environment in terms of liquidity. We also need to recognize that liquidity has a cost - and that is something that we, and other banks like us, did not pay enough attention to in the past.

We need to get more value from liquidity management. With the emphasis on transparency and control via more robust, frequent reporting, we need to use this information to improve management decision making.

CIO

For asset and liability management, we have implemented an integrated risk and finance data mart …. We've also tried to create efficiencies for our data management and risk analytics processes. As we focus more and more on business needs, rather than just compliance needs, we hope to secure a broader return on investment.

By building an accurate picture of the quantities of cash we're holding, its location and how quickly it can be deployed to meet delivery demands, we can optimize our liquidity management and ensure that we don't need to buy costly securities unnecessarily.

Although our data is much better than it was a few years ago, it is still far from perfect. In that respect, we're no different from any other bank - because no institution has perfect data. Sometimes you have to make assumptions. You need a flexible approach to be able to deliver robust, useful reports to the finance and risk functions and the board.

CRO

We have made significant changes to our liquidity framework. We've implemented a new risk appetite with liquidity core ratios that show our funding concentration, balance sheet profile and financing capacity. Our approach is based on setting targets, rather than limits, because we believe that offers a better risk-based approach.

We need to use our intuition and ensure that the management of liquidity forms part of a broader risk culture. It's risky to think only in terms of regulatory compliance when managing liquidity risk. A compliance mindset leads to hard-wired, rigid processes when what we really need is adaptability.

We also need to know how we will identify the early-warning signs, and know how and when we need to respond. An important part of the work is to put in place the governance and processes to ensure that action is taken in a timely manner. Simply monitoring liquidity and reporting on it to internal and external stakeholders is useless without the ability to make decisions based on that information.

These officers have moved beyond viewing liquidity risk management as simply a regulatory compliance issue. They now think in terms of finding business value in the exercise. They have many other insights that you will find valuable as you work to improve your systems and processes and deliver real ROI of liquidity risk management. Read the entire report, Perspectives on Liquidity Risk Management.